The Geithner Disaster

March 20, 2009

Being Treasury secretary is usually not a job that calls for great political skills. But with a banking crisis crippling the economy and threatening to turn a recession into a depression, Tim Geithner has been plunged into the center of politics--as both the person responsible for what the administration should do, and as the main exponent of that policy. But he has faltered in crafting an effective policy and failed miserably in putting it forward. His performance on the bank bailout could undermine passage of Obama’s economic program by depriving the president of the political capital he needs to get it through Congress.

To understand why Geithner has performed so poorly, you have to understand the nature of American populism, and how pervasive it is. Americans don’t generally resent the rich, nor do they automatically applaud tax increases on them or the restoration of the estate tax. Historically, from the Jacksonians to the present, American populism has focused on the specter of banks and speculators--summed up in the last century as “Wall Street”--controlling and undermining the real economy of factories, farms, and offices, and in the process creating a whole class of people who live off unearned wealth at the expense of those who people who “work hard and play by the rules.”

Most times, these populist sentiments are confined to the margins of American society. But when the economy has turned downward, and when unscrupulous or irresponsible speculation has played a role in that downturn, these sentiments have become widespread and deeply felt. In almost everything that Geithner has done, he has roused this populism by appearing to be a patron of Wall Street. Whatever its merits, his bailout plan offers generous subsidies to banks and private investors while protecting bank management and creditors. He clearly didn’t anticipate or take seriously the uproar over compensation to the executives at bailout companies like Merrill Lynch and AIG. And he has resorted to secrecy--fuelling fears of conspiracy--in concealing AIG’s payments to counter-parties.

Some of his hires have also picked the scab of this populism. He chose as his chief of staff a Goldman Sachs lobbyist, who had actually lobbied against a bill to restrain executive pay. Geithner also recently hired as a key advisor Lewis Alexander, Citibank’s chief economist, whose thinking seems sadly typical of Wall Street: In December 2007, he toldBloomberg News that the subprime mortgages did not pose a severe problem and that a recession was not imminent. “The distribution of those losses is relatively broad,” Alexander said. “You are seeing relatively robust corporate performance around the world.”

In addition, Geithner’s performance has sowed distrust and uncertainty about the administration’s ability to revive the economy--which can affect the economy itself by discouraging consumption and investment. Particularly egregious was his tentative, foggy introduction last month of a bank bailout plan. In his defense, Geithner could argue that it is better to have a well thought-out plan that can work than a half-baked plan that can fail. But consider the example of Franklin Roosevelt, whose initial economic plan contained elements that were ill-conceived--like the National Recovery Administration, which the Supreme Court put out of its misery. But Roosevelt’s speed and decisiveness bolstered confidence, and also allowed him to quickly determine what did and didn’t work.

Geithner’s vagueness, in contrast, has stirred unease. In a report last Thursday, the IMF criticized the plan’s lack of “essential details.” According to the Financial Times, the lack of details may also have been a factor in the Federal Reserve’s decision to pump $1.2 trillion into the economy. Though this could pose problems of inflation down the road, the Fed felt like it had to make such a drastic move partly because of “problems rolling out the US financial rescue plan.”

Then there is the bailout plan itself. On the basis of Geithner’s statements and recent leaks, it appears to be an alternative to temporary nationalization or receivership--somewhat similar to the original plan put forward last fall by Former Treasury Secretary Henry Paulson. Instead of the government taking over insolvent banks, replacing their top staff, writing off their bad loans, and injecting new capital reserves into them, Geithner plans to heavily subsidize private investors who want to buy bad loans from the banks, which will wipe the loans from their books and provide new capital for the banks.

As my colleague Noam Scheiber has suggested, Geithner’s plan could work if the bad loans and seamy securities that the banks hold are actually worth something--say, 60 percent rather than 30 percent of their original value. If not--and there are plenty of skeptics who question that--then Geithner’s plan will transfer more money from taxpayers to private investors and bankers without reviving the big banks. That will amplify the growing populist outcry against the Geithner and the Obama administration, and make it more difficult to do what is necessary to revive the economy.

When Geithner first announced his plan, some people thought it was intended to lay the groundwork for temporary nationalization: Banks would be subjected to stress tests, the tests would show they are insolvent, and the government could then step in. But the stress tests have been watered down, with the worst-case scenario (as opposed to the “baseline” realistic scenario) tracking closely to the realistic scenarios that investment firms predict for 2010. That raises the possibility that the tests may not justify bolder steps than the Treasury is presently publicizing, but will merely justify its present course of action.

There is one area where Geithner’s proposals have been clear and bold--and that is in challenging the world’s other major industrial nations, the members of the G-20, to ante up more money to stimulate their own economies and fund the International Monetary Fund. But so far, most of the other nations, led by France and Germany, are refusing to go along on the stimulus, preferring to free-ride on America’s debt burden being created by its stimulus plan and bank bailout.

And Geithner does not seem to have done a good job persuading his fellow finance ministers. One British official, who came to the United States with Prime Minister Gordon Brown to prepare for next month’s G-20 meeting in London, said it was “unbelievably difficult” to deal with the Obama administration. “There is nobody there. You cannot imagine how difficult it is,” one cabinet secretary told the London Times, apparently referring to Geithner’s Treasury department. Officials from another G-20 nation, speaking off the record, also complained about the lack of response they received from Treasury.

One friend recently compared Geithner to Dean Rusk, who served as secretary of state under John Kennedy and Lyndon Johnson. A colorless bureaucrat who rose within the ranks of the foreign policy establishment, Rusk failed to raise questions about American intervention in Vietnam. Instead, he became a stalwart proponent of the war even as the prospects of success plummeted. But if Geithner’s recent missteps are any indication, the Treasury secretary could also turn out to be Obama’s George McClellan, who served dismally as Lincoln’s general-in-chief during the first year of the Civil War and almost cost the Union the war.

That doesn’t mean that Obama should follow Lincoln’s example--and the Republicans’ advice--and get rid of Geithner. Too much of what Geithner has done can also be attributed to, or blamed on, Obama himself and on National Economic Council head Larry Summers. And after all, Geithner has only been around for three months, and people do tend to learn on the job. But it does mean that Obama had better make sure his Treasury secretary does begin to learn from experience--and soon.

John B. Judis is a senior editor at The New Republic and a visiting scholar at the Carnegie Endowment for International Peace.